Looking ahead: Indications of increasing volatility?

Seeyond MTI indicator analysis – October 2016

MTI indicator

In October, we had two noticeable regime changes for the MTI indicators (*).

On October 24th first, the EuroZone (EZ) MTI moved from “Neutral” to “Safe”: a combined result of a favorable momentum and a base effect that turned the regime into safe territory. We are nonetheless paying attention to warning signals in Europe: the EZ Ted spread – a component of the MTI sentiment - further widened: this traditionally reflect tighter funding conditions (higher credit risk). Chart 1 shows the recent gap between Eurostoxx 50 volatility index & EU TED that have been historically well correlated. Would it signal an upcoming rise in volatility level?

Chart 1. Source: Seeyond, Bloomberg

On October 31st, the US MTI moved from “Safe” to “Neutral”. Indeed, our US momentum sub indicator, which tracks the momentum of sentiment-driven stocks for instance, has recently spiked (Chart 2). We believe the approaching US election was linked to this.

Chart 2. Source: Seeyond, Bloomberg

*The Market Tension Indicator (MTI) is a bounded metric which evaluates the degree of uncertainty and market risk. MTI indicators range between 0 to 1 and transitions through 3 regimes (Safe, Neutral and Risky). The lower the value, the lower the risk.
A set of three main MTI indicators are developed to focus on different geographical areas (US, Eurozone, and Emerging Markets).

Analysis

On the macroeconomic side, inflation expectations have recently picked up, and demand for inflation-protected bonds are on the rise. This was consistent with the current equity market vulnerability, likely due to a more hawkish Fed (chart 3) and uncertainties about the very recent U.S. elections (chart 4).

Source: Seeyond, Bloomberg

With the election now behind us, we are expecting very interesting observations over the next month.